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Third-party financing in international arbitration: regulation, advantages and disadvantages

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Elena Sevila and Olga Andrés analyse the regulation, advantages and disadvantages of third-party financing in international arbitration

Third party financing (TPF) can be defined as a method of financing in which, through a contract, a third party - usually a professional investment fund - undertakes to provide funds to a potential party to legal or arbitral proceedings, so that it can bear the legal costs that litigation may entail. Note that such third party is not a party to the judicial or arbitral proceedings in question.

Today, TPF is used repeatedly in competition law disputes and, in turn, in commercial and investment arbitration, i.e. in very high value litigation proceedings where most of the parties to the proceedings are usually legal persons.

In arbitral proceedings, the parties are increasingly turning to TPF, despite the current lack of regulation of this figure. It is a mechanism that is here to stay.

Poor TPF regulation
Despite the fact that, little by little, some States and arbitration institutions are introducing legislative modifications and amending their regulations with the aim of regulating TPF, regulation on this matter is still scarce today, both at the international and national levels.

The pioneer state in regulating this matter was the United Kingdom, when it created the Code of Conduct for Litigation Funders in 2011. In the United States, the American Bar Association created the so-called White Paper About Alternative Litigation Financing, which includes several rules that every American lawyer must follow when taking on the defense of a case that is funded by a third party.

Recently - specifically on 10th January 2017 - the Singapore Parliament passed the so-called Civil Law (Amendment) Bill - Third Party Funding for Arbitration and Related Proceedings, since prior to the entry into force of this law on 1st March 2017, third party financing in Singapore was prohibited.

Within the field of investment arbitration, it is worth noting that the Chinese International Economic and Trade Arbitration Commission adopted the rules governing international investment arbitration on 1st October 2017. In particular, article 27 of the aforementioned law refers to TPF, requiring that the party that has resorted to external financing must notify both the other parties to the arbitration proceedings, the arbitral tribunal and the arbitration institution of the existence of such a financing agreement immediately after it has been concluded.

The absence of TPF regulation in the Spanish legal market is evident. Nevertheless, and in accordance with numerous precepts of our legal system, nothing seems to prevent the regulation of TPF in our country in accordance with the principle of freedom of covenants established in art. 1255 CC. TPF is also related to the principle of universal access to justice in Article 119 EC. Some authors, such as C. Alonso Cánovas, have considered TPF to be "an alternative to the figure of court-appointed lawyer (...), especially since this institution is clearly more suitable for individuals with limited resources than for large companies involved in commercial disputes".

In the absence of TPF regulation, Queen Mary University conducted a study that looked at the most effective way to regulate TPFs, and most respondents (58%) felt it would be best to do so through Guidelines such as the IBA.

Advantages and disadvantages of third-party financing in international arbitration
The main advantage of TPF is that it overwhelmingly facilitates access to justice, because it allows a party to bring a dispute or defend itself against an action that it would otherwise not be able to afford. However, TPF also includes several drawbacks, including: (i) potential conflicts of interest; and (ii) disclosure of the existence of funding to the parties and the arbitral tribunal. With the existence of TPF in an arbitration procedure, the possibility of conflicts of interest arises if the investing company has maintained or is maintaining a relationship with the arbitrator. To avoid such potential conflicts of interest, the IBA Guidelines on Conflicts of Interest in International Arbitration require the parties to disclose the existence of any relationship between the arbitrator and any natural or legal person having a direct economic interest in the outcome of the proceedings.

The scope of the obligation to disclose the existence of such third-party financing may be broad. Sometimes the disclosure duty only covers the identification of the third party, but sometimes the party may be required to provide the financing contract.

On the other hand, the legal concept of security for costs is increasingly being integrated into international arbitration practice. However, arbitral tribunals have not been very inclined to grant such interim measures when requested to do so. However, in RSM v. Saint Lucia the arbitral tribunal did require the claimant to provide a bond of USD 750,000 for securing payment of a possible order for costs.

In short, it seems that, as we said, third-party financiers are here to stay and to become yet another player in international arbitration proceedings.

 

For further information, please contact:

Elena Sevila

elena.sevila@AndersenTaxLegal.es

Olga Andrés

olga.andres@AndersenTaxLegal.es

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